Digital economy and taxation
The digital economy, which is the new economy and not a part of it, challenges the principles that underpinned international taxation in recent decades, with its particularities:
Importance of consumer and user data (”data is the new economic resources”).
Business scale without physical presence or minimal physical presence in the territory.
Relevance of intangible assets, mainly marketing assets.
The principles of taxation, which are now obsolete to deal with the new business models of digital companies and the particularities mentioned, are:
In-residence taxation of business profits, unless there is a permanent establishment in the country, as a fixed place of business (physical).
Principle of separate entities for multinational enterprises.
Transfer pricing to value transactions between related parties.
In this context, considerations of equity arise between states and also between companies with a physical presence in a territory and those that do not have it, all of which leads to new principles and rules, in particular those relating to the jurisdictional Nexus and the allocation of profits. “Value creation” becomes a key aspect in appropriating income to the respective jurisdictions.
Evolution of the theme
In the ’90s, the emergence of electronic commerce and first tax challenges in terms of dematerialization, disintermediation and de-territorialization appeared, which gave rise to preliminary studies and some proposals (bit-tax, etc.). Then, passing through “the 4th Industrial Revolution ” with the disruptive advancement of ICT, appears Action 1 of the BEPS Plan (2013-2015) which, although it did not bring a solution, did raise the problem and possible solutions. Subsequently, there are the unilateral measures of countries such as India, China and some Europeans; the advance of BEPS in the Inclusive Framework; the final and provisional community proposals in Europe and, closer in time, the pillars of OECD.
At this time of year, it is somewhat unlikely that the long-awaited international consensus, which the OECD intends to achieve by the end of this year, can be achieved with its proposal for a “unified approach” of Pillar 1 (including new jurisdictional nexus rules, which would allow states hosting markets to tax a portion of the residual – non-routine-profits of multinational companies, and also profit attribution rules through amounts A, B and C) and Pillar 2 (as an anti-abuse tax measure, with a minimum tax at global level).
Some UN officials question the possible global threshold they consider could be applied for the new rules (EUR 750 million). They also criticized the restricted determination of amount A, limited to benefits considered “non-routine”; the risk that amount B would become an elective” safe haven ” for taxpayers; and as for the determination of amount C, they warned that developing countries might not want to participate in mandatory and binding arbitrations due to issues of sovereignty and representation.
UN proposal on automated digital services
In the framework of one of the worst crises experienced, product of the pandemic COVID-19 and in the context of diverse and relevant interests at stake, that has even induced to raise economic reprisals or measures of reciprocity against the proliferation of unilateral measures diverse and uncoordinated for taxing the digital economy (withholding taxes, permanent establishment, digital tax digital services, implementation of VAT), in August last the Committee of Experts of the United Nations on International Cooperation in Tax Matters published a draft of article 12b in its Model Tax Treaty.
The UN pushed for a reform of the Model Convention to avoid double taxation by seeking to implement a relatively simple taxation rule on automated digital services (ADS) that originate in one state and are paid by a resident of another state, which can be taxed in both jurisdictions, i.e. can be included in the country from which the payment originates-if so provided by its legislation – and also in the country where the payment is directed-from where the service was provided-. If the beneficial owner of the income is resident in the other state, a tax limit is established between countries, on gross income.
The beneficial owner of the ADS income may require the state from which the income for such services arises to subject his qualifying earnings from such services for the fiscal year in question to the tax rate provided for in the domestic legislation of that state. Qualified gains shall be 30% of the amount resulting from applying the beneficial owner’s rate of return or the rate of Return of the automated digital business segment, if available, to the annual gross revenue of ADS derived from the contracting state from which such revenue originates.
The proposed rule says nothing about the creation of value or the requirement to prove any type of significant virtual or economic presence in the market country, which clearly differs from the OECD proposal.
The definition of SDA includes services that are provided through the internet or any other network with minimal human intervention, where nearly everything is programmed, and where the systems ultimately end up providing the service, not including payments for technical services which are regulated in article 12a of the Model Convention. The rule will apply to certain types of services where there is a payment from another state by a subject resident in that state or a permanent establishment to which the payment obligation is due.
The above rule shall not apply if the beneficial owner carries out its SDA activity in the state where the income originates, through a permanent establishment or is an independent personal service on a fixed basis, in which case the respective rules for such cases shall apply.
This proposal could be seen as a partial solution for the attribution of service benefits because it only regulates a certain type of digital business, extending the tax power over digital services to the countries where the corresponding payments originate, so that now the market jurisdictions would become involved, but through an extremely simple nexus rule that is being proposed by the UN.
The fundamental differences of the UN proposal in relation to that of the pillar 1 of OECD are: first, it does not enter into the distinction between residual income and routine income as proposed by the OECD, which ends up being extremely complex; second, it is not going to apply to all consumer-oriented digital businesses but only to a certain type of business; and third, it clearly and significantly assigns tax power to market jurisdictions.
This proposal of the UN allows the jurisdictions to receive a fixed amount on the gross of all payments made, does not require the existence of any kind of physical presence in the jurisdiction of the market to attribute the taxable event, which goes a little against what the UN was touting with the rule of the “significant digital presence”, but on the other hand, means simplifying a lot of the assessment of the tax on the part of developing countries, because all they have to do is check if the payment for these services originates in their jurisdiction and basically going to work with withholdings made by the payer or by the intermediary or the financial institution even if subsequently the taxpayer has the possibility of presenting a definitive declaration.
The OECD proposal is much more sophisticated and ambitious, while the UN recommendation is simpler, more practical and easier to administer, but does not cover the full extent of the issue.
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